Highlights 2023

WP 23/13

In "Climate Risk, Bank Lending and Monetary Policy", Marco Pagano and Andrea Polo, together with Carlo Altavilla and Miguel Boucinha, study whether banks price climate risk in their lending activity, and whether monetary policy shocks affect climate risk pricing. To do so, they combine euro-area credit register data with carbon emission data, and find that euro-area banks charge higher interest rates to firms featuring greater carbon emissions, and lower rates to firms committing to lower emissions, controlling for their probability of default. Both effects are larger for banks committed to decarbonization. Consistently with the risk-taking channel of monetary policy, contractionary monetary policy shocks induce banks to increase both credit risk premia and carbon emission premia, and reduce lending to high emission firms more than to low emission ones. While restrictive monetary policy increases the cost of credit and reduces lending to all firms, its contractionary effect is milder for firms with low emissions and those that commit to decarbonization. These results align quite strikingly with euro-area banks’ self-reported information from a survey conducted in July 2023, which shows that banks – especially those committed to decarbonization – differentiate their terms and conditions and their credit standards depending on their clients’ perceived environmental impact.

WP 23/12

In “Approximating Singular by Means of NonSingular Structural VARs”, Mario Forni and Marco Lippi study the estimation of a singular VAR (more variables than shocks) by means of a non-singular approximation. They show that although the matrices of the non-singular VAR do not converge, the projection and then residuals do. The paper is closely linked to “Common Components Structural VARs”, Working Paper 23/06 EIEF.

WP 23/11

In "Higher Education and Mortality: Legacies of an Authoritarian College Contraction" Mounu Prem, together with Felipe González, Luis R. Martínez, and Pablo Muñoz, studies the effect of higher education on mortality. To do so, they exploit the reduction in college openings introduced by the Pinochet regime after the 1973 coup in Chile, which led to a sharp downward reduction in college enrollment among those cohorts reaching college age in the following years. Using administrative data from the vital statistics, they document an upward change in the trend in the age-specific yearly mortality rate of individuals in the affected cohorts. They estimate a negative effect of college on mortality between ages 34-74, which is larger for men, but also sizable for women. Individuals in the affected cohorts experience worse labor market outcomes, are more likely to be enrolled in the public health system, and report lower consumption of health services. This suggests that economic disadvantage and limited access to care play an important mediating role in the link between higher education and mortality.

WP 23/10

In "Strategic Complementarities in a Dynamic Model of Technology Adoption: P2P Digital Payments" the authors develop a dynamic model of technology adoption featuring strategic complementarities: the benefits of the technology increase with the number of adopters. They show that complementarities give rise to gradual adoption, multiple equilibria, multiple steady states, and suboptimal allocations. The authors study the planner’s problem and its implementation through adoption subsidies. They apply the theory to SINPE Movil, an electronic peer-to-peer payment app developed by the Central Bank of Costa Rica, currently adopted by 60 percent of adults. Using transaction-level data and several administrative data we estimate sizable complementarities. In their calibrated model the optimal subsidy pushes the economy to universal adoption.

WP 23/09

In "Caballero-Engel meet Lasry-Lions: A uniqueness result" the authors establish the uniqueness of the equilibrium in a class of Mean field game problems where the decision makers control (and reset) the state at optimally chosen times. This setup accommodates several problems featuring non-convex adjustment costs, and complements the well known drift-control case studied by Lasry-Lions. Examples of these problems are described by Caballero and Engel in several papers, which introduce the concept of the generalized hazard function of adjustment. The authors extend the analysis to a general “impulse control problem” by introducing the concept of the “Impulse Hamiltonian”. Under the monotonicity assumption (a form of strategic substitutability), they establish the uniqueness of equilibrium. In this context, the Impulse Hamiltonian and its derivative play a similar role to the classical Hamiltonian that arises in the standard drift control case.

WP 23/08

In "Inflation and misallocation in New Keynesian models" the authors use granular data that depict the price-setting behavior of firms to measure the welfare costs that are caused by the presence of sticky prices. They propose a method to estimate these welfare costs for the period preceding 2022, and during the subsequent high inflation period. Using data from PriceStats and from the ECB PRISMA project they find that these welfare costs are sizeable. In the low inflation environment prevalent before 2022 in the Euro Area the efficiency cost is quantified in about 2 percentage points of GDP. Moreover, they estimate that the recent inflationary shock has temporarily increased these costs, in the order of a 3 additional percentage points of GDP.

WP 23/07

In "Large shocks travel fast" the authors leverage the inflation upswing of 2022 and use various granular data sets to identify robust price setting patterns following a large supply shock. They show that the frequency of price changes increases dramatically after a large shock. They setup a parsimonious New Keynesian model and calibrate it to fit the steady state data before the shock. The model features a significant component of state-dependent decisions, implying that large cost shocks incite firms to react more swiftly than usual, resulting in a rapid pass-through to prices—large shocks travel fast. Understanding this feature is crucial for interpreting recent inflation dynamics.

WP 23/06

In “Common Components Structural VARs” Marco Lippi, together with Mario Forni, Luca Gambetti and Luca Sala, provide a systematic study of a new approach to Structural Macroeconometric analysis. The paper starts by showing how Structural VARs are non robust with respect to the choice of variables. This is explained by measurement errors and deficient information sets. The paper proposes to replace the observed variables by their common components, estimated in a High-Dimensional Dynamic Factor Model. Consistency of this procedure is proved. Moreover, in an application to monetary policy shocks, the CC-SVAR results are robust and well-known puzzles disappear.

WP 23/05

In "The intergenerational transmission of higher education: Evidence from the 1973 coup in Chile" Mounu Prem, together with María Angélica Bautista, Felipe González, Luis R. Martínez, and Pablo Muñoz, studies the transmission of higher education across generations using the arrival of the Pinochet dictatorship to Chile in 1973. Pinochet promoted a large contraction in the number of seats available for new students across all universities. Using census data, we find that parents who reached college age shortly after 1973 experienced a sharp decline in college enrollment. Decades after democratization, we observe that their children are also less likely to enroll in higher education. The results imply large and persistent downstream effects of educational policies over more than half a century.

WP 23/04

In "Peaceful Entry: Entrepreneurship Dynamics during Colombia's Peace Agreement" Mounu Prem, together with Carolina Bernal, Juan F. Vargas, and Mónica Ortiz studies entrepreneurship dynamics during the recent peace agreement in Colombia. In general, the end of internal conflicts is often shaped by political uncertainty and threats of violence recurrence. This implies that the effects of conflict termination on economic activity and specifically entrepreneurship can go in either direction, and we know little about this relationship. We study Colombia’s recent peace agreement with the FARC guerrilla, where we document that dynamics of entrepreneurship in traditionally violent areas closely mapped the politics that surrounded the peace agreement. When the agreement was imminent after a 5-decade conflict and violence had plummeted, local investors from all economic sectors established new firms and created jobs. Instead, when the agreement was rejected in a referendum, the party that promoted this rejection rose to power, and violence re-escalated, the rate of firms’ creation rapidly reversed.

WP 23/03

In "Managers' Productivity and Recruitment in the Public Sector" Mounu Prem, together with Pablo Muñoz study how a civil service reform in Chile changed the effectiveness of a vital group of public sector managers: school principals. They start by constructing a measure of principal effectiveness based on students’ performance. Then, they evaluate the effect of the reform on principal effectiveness by comparing public schools that experienced a principal turnover to turnovers in publicly funded but privately run schools. They find that public schools appointed more effective managers and improved their students’ outcomes after increasing the competitiveness and transparency of their selection process.

WP 23/02

In “Refining Public Policies with Machine Learning: The Case of Tax Auditing”, Luigi Guiso, together with Marco Battaglini, Eleonora Patacchini, Chiara Lacava and Douglas L. Miller, studies how ML techniques can be used to improve tax-auditing efficiency using administrative data without the need for randomized audits. It uses Italy's population data on sole proprietorship tax returns and audits and offers a new approach that addresses the challenge that predictions must be trained on human-selected data. The key finding is that there are substantial margins for raising revenue from audits by improving the selection of taxpayers to audit with Machine Learning. Replacing the 10% least promising audits with an equal number selected by the algorithm increases detected tax evasion by as much as 38%, and evasion that is actually paid back by 29%. Gains remain large even if the algorithm suggested audits are restricted to taxpayers in specific income groups or industrial sectors.

WP 23/01

In “How much and how fast do investors respond to equity premium changes? Evidence from wealth taxation”, Luigi Guiso, together with Andreas Fagereng and Marius Ring, investigates how individual investors respond to predicable changes in the equity premium. The paper exploits a wealth tax reform that first induced an equity premium and later reversed to track individual investor responses. Using administrative data on Norwegian investors’ portfolios, the paper documents strong but slow portfolio allocation responses to the equity premium shock. Tracking the portfolio allocations over time, it shows that the short-run responses are weak and resemble those found in a growing survey-based literature that uses variation in subjective beliefs of stock returns.  However, the longer-run responses are much larger and can be rationalized by a contained coefficient of relative risk aversion between 2 and 3. The finding that response size increases significantly over time suggests that portfolio adjustment frictions are pervasive. The paper further finds that equity premium increases have large effects on stock market entry but that an equity premium decrease barely induces exits, which is consistent with the presence of both moderate entry costs, estimated at around $800, and considerably smaller per-period participation costs of around $90. The paper findings of slow portfolio responses to equity premium shocks provides supportive evidence for recent strands of literature that build on adjustment frictions to explain a wide range of asset pricing puzzles. They also have implications for optimal capital taxation when tax rates can differ across assets.